4 Reasons to Like Kellogg’s Move to China

by Susan J. Aluise | September 28, 2012 1:05 pm

Investors’ eyes are on cereal giant Kellogg (NYSE:K[1]) this week in the wake of a new joint venture with Singapore-based Wilmar International — a partnership that aims to make Western cereals and snacks as ubiquitous in China as steamed buns and vegetable rolls.

The two companies will manufacture, sell and distribute Kellogg’s cereals and snack foods through Yihai Kerry Investments Co., which is Wilmar’s wholly owned subsidiary in China. The 50-50 joint venture marks the second time[2] the king of classic breakfast cereals like Rice Krispies has attempted to cash in on the growing market for packaged foods in China.

The first time around was back in 2008 when Kellogg purchased a majority interest in China-based Navigable Foods — a move that proved the wrong approach to the market. Kellogg divested its stake in that company earlier this year. Success in the Chinese food and beverage market — which is poised to become the world’s largest by 2017 — requires a precise blend of global reach with a local touch.

Dunkin Brands (NASDAQ:DNKN[3]) also found this out the hard way. The company first entered the Chinese market in 1994, but was sorely disappointed when customers found its donuts too sweet. It then regrouped and returned in 2008 with a different focus and menu options. Earlier this year, DNKN tapped NBA star (and Chinese basketball fan favorite) LeBron James to represent the chain[4] — and hawk local menu options like shredded pork donuts.

So while Kellogg’s high-quality brand identity is important to Chinese consumers, it doesn’t automatically make Rice Krispies or Pringles potato chips a hit.

Still, the joint venture deal with Wilmar seems to up the company’s chances of success the second time around. Here are four reasons why:

1. Wilmar’s Manufacturing and Distribution Strength. Wilmar International is an integrated agribusiness group with more than 400 manufacturing plants and an extensive distribution network covering China, India, Indonesia and 50 other countries. Wilmar has a strong distribution network in first, second and third-tier cities throughout China. Last year, it generated some $7 billion in revenue from sales of palm oil and other products in China. Being able to leverage that infrastructure and distribution network will be particularly important as Kellogg seeks to broaden its footprint in the region.

2. Wilmar’s Sugar Refinery Purchase. Kellogg will benefit from partnering with a company that scored a major coup by buying Australian conglomerate CSR’s sugar division two years ago. That deal, which trumped an offer by China’s partially state-owned Bright Foods, gave Wilmar control of more than half of Australia’s raw sugar production — not a bad thing to have when you’re selling products like Pop Tarts and Froot Loops.

3. Wilmar Can Help Kellogg Serve ‘Many China’s’. Global brands need to “act locally” in order to succeed, but when it comes to local tastes, a “One China” policy can fall flat. For example, Starbucks (NASDAQ:SBUX[5]) has been a notable success story in China with more than 500 stores in the country. It is targeting the country as its top market outside the U.S. But not only did the iconic coffee company feature green tea-based beverages, it tapped the local expertise of three partners in different geographic regions of the country in order to drill down deeper into those markets. The China strategy[6] for Kraft’s (NASDAQ:KFT[7]) spin-off snack food business is likely to be similar, with beef-stew flavored Ritz crackers and Oreos that taste like vanilla birthday cake. This deal gives Kellogg the insider info to follow suit.

4. China is Too Big to Ignore. Conventional Wisdom may suggest a “once burned, twice shy” approach, but for U.S. food companies like Kellogg, the market is too big to pass up. Although China’s white-hot growth is cooling, it is still a huge opportunity compared with the mature North American market. As Kellogg President and CEO John Bryant said in announcing the deal:

“China’s snack-food market alone is expected to reach an estimated $12 billion by year-end, up 44% from 2008. To capture this growth, we will leverage the key strengths Kellogg and Wilmar bring to the partnership — the globally recognized Kellogg’s and Pringles brands and deep category knowledge; scale and local market experience; and our mutual commitment to consumer-focused innovation.”

Bottom Line: Really, the only red flag about the venture is competition from Bright Foods’ acquisition[8] of a 60% stake in UK cereal company Weetabix earlier this year. And despite the benefits of the deal, Kellogg will still have to work hard to master the culinary cravings of a market where snack foods include taste sensations like “Scorpions on a Stick.”[9]

But save those few issues, the joint venture with Wilmar has the potential for Kellogg to cash in on China. It looks like the second time could indeed be the charm.

As of this writing, Susan J. Aluise did not hold a position in any of the stocks named here.

Endnotes:
  1. K: http://studio-5.financialcontent.com/investplace/quote?Symbol=K
  2. marks the second time: http://investorplace.com/2012/09/kellogg-makes-second-try-at-chinese-market
  3. DNKN: http://studio-5.financialcontent.com/investplace/quote?Symbol=DNKN
  4. LeBron James to represent the chain: http://www.reuters.com/article/2012/03/05/us-dunkinbrands-idUSTRE8240HX20120305
  5. SBUX: http://studio-5.financialcontent.com/investplace/quote?Symbol=SBUX
  6. The China strategy: http://online.wsj.com/article/SB10001424052702303395604577434071750952662.html.
  7. KFT: http://studio-5.financialcontent.com/investplace/quote?Symbol=KFT
  8. Bright Foods’ acquisition: http://www.ft.com/intl/cms/s/0/b826ffae-bba6-11e1-9436-00144feabdc0.html#axzz27hgU1UlP
  9. “Scorpions on a Stick.”: http://abcnews.go.com/International/slideshow/markets-dare-partake-scorpion-starfish-larvae-12053666.

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